Investing is a unique kind of casino — one where you cannot lose in the end, so long as you play only by the rules that put the odds squarely in your favour.” When British-born American economist and investor Benjamin Graham, who was also Warren Buffett’s mentor, said this sometime early in the last century, he was guiding investors on ways to earn good returns while playing it safe. This is truer now than ever before in India where, in a volatile stock market, only a handful of stocks are driving the rally, while most others are refusing to move.
Graham was a proponent of value investing, the most reliable way to generate good returns in stocks markets. The idea is to pick good quality stocks trading at a discount to their historical valuation ratios. These, he believed, would be long-term wealth creators while also providing a margin of safety. With the current stock market rally built on weak economic fundamentals, it is even more important for investors to buy only value stocks with strong growth potential.
To save you the hard work, BT has crunched numbers to come up with scores of such potential wealth generators. We have drawn up the list (See Table) by comparing the current valuation ratios of the top 1,000 listed companies with their historical ratios and looking at the quality of their earnings and balance sheet strength (See Methodology).
Ideal Time for Value Picks
Value investing involves buying a piece of a quality company which is undervalued compared to its fair value. “In the current market scenario, a beaten down stock will enable an investor to compound his returns if there is a mismatch between its current price and fair value. The pandemic-led lockdowns have disrupted a number of industries and many companies are suffering. But a wise investor will look beyond that and pick companies that he feels will emerge stronger on the other side of this pandemic,” says Nirali Shah, Senior Research Analyst, Samco Securities.
Ajit Mishra, VP - Research, Religare Broking Ltd, says markets have already run up significantly from March lows and some large caps are trading at stretched valuations. The BSE Sensex hit a three-year low on March 23 and closed at 25,981. Exactly three months later, it was at 38,435, up almost 50 per cent.
“In such a scenario, investors should opt for the ‘bottom-up’ approach and look for stocks which are available at a fair valuation. They may consider broader markets to start with as these are picking up pace due to attractive valuations,” says Mishra.
Tobacco and FMCG major ITC, for example, is currently trading at 16 times its trailing 12-month earnings, about 50 per cent discount to its five-year average price to earnings (P/E) multiple of 29x. Such a low valuation was last seen in the aftermath of the 2008 global financial crisis in the March 2009 quarter. There has been a sharp fall in ITC’s top line and earnings growth in the last two years due to shrinking of its tobacco business but the company has shifted its focus to the fast-growing FMCG division that should yield dividend in the coming quarters. The FMCG division now accounts for a quarter of ITC’s revenues; its PBIT rose 31 per cent in FY20. This is likely to support ITC’s valuation going forward.
Similarly, Power Grid Corporation is trading at around 30 per cent discount to its five-year average P/E multiple. There has been a slowdown in top line growth in the last few quarters but it has one of the best return on equity (RoE) in the power sector. While the sector’s RoE is 10-11 per cent, the figure for Power Grid is 15 per cent, making it an ideal value stock for long-term investors.
40% Fall in broader market indices between January 2018 and March 2020
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September 20, 2020